How sustainable is UK property investment?

As energy costs soar and climate concerns increase, how should property companies respond to tenant and investor demand for buildings which fulfil green credentials – but at an affordable price?

Climate change and sustainability issues are rising ever higher in the public consciousness and on the political agenda.  But what are the implications for property investment?

Until quite recently the majority of the property industry took little notice of sustainability issues but a range of factors has helped push the issue onto board room agendas.

Scientists are almost unanimous that the climate is changing as a result of man’s heavy use of fossil fuels. In addition the Government’s Stern Review stated that significant carbon reductions were required to mitigate the onset of severe, possibly irreversible, climate change.  Policy makers are looking to buildings as a potential route for reducing carbon emissions as 47% of all UK carbon dioxide emissions come from buildings, with nearly 20% from non-domestic ones.

Rising energy costs

The most critical concerns for anyone looking to occupy a building have traditionally been rental price and location, with energy prices counting for only a small proportion of the overall cost consideration. But recent headlines seem to confirm what energy analysts have long said: that supplies of fossil fuels have peaked and we’ll soon see a decline in their availability, with accompanying price rises.

If energy prices do continue to rise this may lead to an increasing demand from occupiers for improved environmental performance with a view to reducing overheads from the service charge and from their own direct energy supplies. 

Emissions trading

The introduction of emissions trading for the non-industrial sectors, into which significant energy users (including major landlords and their tenants) will be subsumed, will likely precipitate this trend.  It will also add the cost of buying allowances to the energy part of the service charge, thereby making it more significant and noticeable to the tenant.

It therefore seems likely that the traditional priorities for potential occupiers – location and cost – will increasingly be supplemented by concerns of environmental performance.

Sustainability strategies

Many major occupiers have already responded to this new agenda by developing sustainability strategies and setting carbon reduction targets. This will lead them to be selective about the environmental profile of the buildings they occupy.

We may begin to see occupiers choosing only exemplary buildings, as defined by elective criteria such as BREEAM or LEED or according to high ratings on the recently introduced Energy Performance Certificate.

Less efficient buildings

We could see less efficient buildings beginning to command lower rents, with a consequential impact on the bottom line.  The Property Industry Alliance’s Occupier Satisfaction Index 2008 confirmed that sustainability was top of many occupiers’ concerns, and an area they wanted to see the industry take more action on. 

Most notably, occupiers wanted to see more action and increasing focus on energy consumption, waste management and sustainable development, particularly on older building stock.

Investor attitudes changing

There is evidence that this change in attitude is infiltrating investor audiences too.  A further survey From Green to Gold (2007) by GVA Grimley on investor attitudes toward sustainability said that: ‘When considering purchases, 94% of respondents considered sustainability issues, compared with only 6% who rated this of no importance.  30% of respondents classed it of equal importance with other factors.’

Several industry service providers have responded to this change in the prevailing wind.  The Investment Property Databank, which reports on the financial data for the industry’s key players, has developed an Environment Code to measure the sustainability of common properties.  IPD is also working with the Investment Property Forum on a Sustainability Index which could provide some much needed clarification over any potential linkage between asset value and sustainability.

Sustainability and value

While this direct link between sustainability and value still needs clarification, there are signs that compliance with sustainability-related legislation can have some benefit for the bottom line. 

Many have observed that good sustainability practice is ‘future proofing’ – ie an obsolete asset (through non-compliance with the norms, best practice and legislative agenda of the day) will prove difficult to let or sell in the future, still less at a return. 

By being one step ahead of legislation, compliance can be mapped out and piecemeal improvements avoided.  Hermes subjected its portfolio, in advance of legislative requirement, to its best understanding of what Energy Performance Certificates would entail to identify those which would require management focus and/or investment in environmental performance.

Government consultation

The Government’s appetite for improving the performance of buildings seems undiminished and it is due to set out its intentions with regard to existing buildings towards the end of this year.  A long awaited consultation on plans for how the industry will deliver zero-carbon, new, non-domestic buildings is also expected, making this a crucial year for the industry. 

A question remains as to whether the industry will need Government’s help to deliver the improvements they require and still be able to deliver buildings occupiers are willing to select.

Luxury or necessity

In view of the state of the economy the industry has been debating over the past few months whether sustainability is a luxury or a necessity. Many have stated their intention to persist with their sustainability initiatives although the downturn may have a temporary impact as firms focus on survival rather than longer term aspirations. 

It seems likely, however, that occupier demand and Government policy will require the industry to deliver ever increasing standards of environmental performance if it wishes to attract tenants, trade assets and enjoy good returns.